What Exactly Is Negative Inflation?

It may be hard for some people to grasp the idea of negative inflation because this sounds like two completely opposite terms are being used to make up a phrase. To some, “negative inflation” is sort of like saying something got bigger and it got smaller. It doesn’t seem to make sense.

Isn’t negative inflation the same thing as deflation? Economists explain that negative inflation is different from deflation, because deflation is a true contraction of the overall economy, in the overall prices of products and services. When the inflation rate falls below zero on a percentage scale, deflation occurs. Maybe it would be best to think of this subject as negative inflation rate. Adding the word “rate” might help because the rate is a measure that can increase or decrease.

So, let’s review – Prices on products and services increase, even though the amounts and quality don’t increase. That, in a nutshell, is inflation. Negative inflation is the falling of prices, meaning that growth in retail sales capitalists like to see isn’t occurring. It may be easier to understand negative inflation by just calling it a decrease. Then comes deflation, when the price index and growth actually falls below zero and things are truly grinding to a halt.

That should settle the question, if only the man on the street could understand such items as consumer price index. This is what inflation is based on. Economists study the rise in prices paid for products and services, comparing one year with another, for example. When the CPI number changes, economists and politicians say that we have inflation because the prices paid to retail merchants is up. As explained earlier, if the prices paid at retail stores go down, we have the opposite of inflation. This is what some have ventured to call negative inflation.

But there is another factor, the wholesale price index. This measures products at the wholesale level, which is a different concept. Some observers have started to warn about negative inflation because the overall activity based on the WPI was decreasing. It all depends on what index you use.

All of this remains very confusing and some of the trouble with understanding inflation, deflation and negative inflation lies with the terms used. If we would just think of a balloon – when it is inflating it is getting bigger; when it is deflating it is getting smaller. Basically there is less air or helium inside. To get a true picture of inflation, you would have to step back and look at the world’s complete economy as one large balloon. If it is getting bigger, more products are being produced and people are buying them, the economy is inflating. If the economy is getting smaller and “things” are not being produced and purchased, the economy is deflating.

Some economists have argued that we should throw out the term “negative inflation” altogether because it would be less confusing to simply state that prices are falling and the economy is slowing down. That might work.